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Ruling

Subject: Rental property expenses

Question

Are you entitled to a deduction for your share of the work in replacing the ceiling in the games room of your rental property?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 2013

The scheme commences on:

1 July 2012

Relevant facts and circumstances

You and two others own equal shares in a rental property.

The property was built a number of years ago and later a games room was added as an addition to the property and approved by the local authority.

You purchased the property and have continually rented it since.

This year the ceiling to the games room collapsed due to internal wind damage from a major storm where a ceiling strap rivet had pulled out of the bottom of the roof sheeting pan. With continuous rain over a number of days water leaked on to the ceiling panels causing the panels to absorb the water leading to the collapse of the ceiling.

You have provided a copy of the insurer's builder's assessment report of the damage and quotes from builders.

You have had ongoing issues with your insurer who has declined to accept your claim.

The original ceiling panels were supported by T-bars and steel straps riveted to the roof. The ceiling will be replaced with the similar materials previously used with T-Bars and steel straps attached to beams for support of the ceiling.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 25-10

Reasons for decision

Section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for the cost of repairs to premises used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 does not allow a deduction for repairs where the expenditure is of a capital nature.

The word repair is not defined within the taxation legislation. Accordingly, it takes its ordinary meaning. In W Thomas & Co Pty Ltd v. Federal Commissioner of Taxation (1965) 115 CLR 58; (1965) 14 ATD 78; (1965) 9 AITR 710, it was held that a 'repair' involves a restoration of a thing to a condition it formerly had without changing its character. It is the restoration of efficiency in function rather than the exact repetition of form or material that is significant.

Taxation Ruling TR 97/23 indicates that expenditure for repairs to property is of a capital nature where:

· the extent of the work carried out represents a renewal or reconstruction of the entirety,

· the works result in a greater efficiency of function in the property, therefore representing an 'improvement' rather than 'repair',

· the work is an initial repair.

Replacement of a subsidiary part or an entirety

TR 97/23 at paragraph 38 considers that a property is more likely to be an entirety if:

· the property is separately identifiable as a principal item of capital equipment;

· the thing or structure is an integral part, but only a part, of entire premises and is capable of providing a useful function without regard to any other part of the premises;

· the thing or structure is a separate and distinct item of plant in itself from the thing or structure which it serves,

· the thing or structure is a 'unit of property' as that expression is used in the depreciation deduction provisions of the income tax law.

According to paragraph 39 of the TR 97/23, property is more likely to be a subsidiary part rather than an entirety if:

· it is an integral part of some larger item of plant;

· the property is physically, commercially and functionally an inseparable part of something else.

In the case of W Thomas & Co Pty Ltd v. FC of T (1965) 14 ATD 78; (1965) 115 CLR 58, which involved a claim for general repairs to a building, it was said that the question was not whether the roof or floor or some other part of the building, looked at in isolation, was repaired as distinct from wholly reconstructed, but whether what was done to the floor or the roof was a repair to the building.

Repair or improvement

Paragraph 45 of TR 97/23 distinguishes between a 'repair' and an 'improvement' to property which one needs to consider the effect that the work done on the property has on its efficiency of function.

If the work entails the replacement or restoration of some defective, damaged or deteriorated part of the property, one does not focus on the effect the work has on the efficiency of function of the part. That is not determinative of whether the property is repaired or improved. It is a relevant factor to take into account, however, in considering the effect of the work on the property's efficiency of function. It is possible, for instance, that the replacement of a subsidiary part of property with a part better in some ways than the original is a repair to the property without the work being an improvement to the property.

Initial repair

The work undertaken is not considered to be an initial repair. In your case, the ceiling to the games room of your rental property has collapsed due to damage to the roof from a storm. The repairs to be carried out will restore the ceiling of the games room of your rental property to its former condition.

The work to be carried out does not result in a greater efficiency of function and is therefore not an improvement and is not a renewal or construction of an entirety. The work undertaken was to restore the ceiling to its previous condition. Accordingly, the costs are not capital in nature and are deductible under section 25-10 of the ITAA 1997.

Apportion and legal ownership

When determining what proportion of income and deductions are to be returned in relation to a rental property, it is the Legal Title that is the determining factor. Taxation Ruling TR 93/32; Income tax: rental property - division of net income or loss between co-owners; reads as follows at paragraph 6:

the income/loss from the rental property must be shared according to the legal interest of the owners except in those very limited circumstances where there is sufficient evidence to establish that the equitable interest is different from the legal title.

As you are a joint owner of your rental property, deductions incurred in the process of producing rental income from an investment property are distributed according to the legal ownership of the property.

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